By: Jared Abrahamson
With the financial volatility prevalent in today’s world, choosing the right type of construction contract can be a crucial factor in determining whether a contractor thrives or struggles. Some of the most common types of contracts include negotiated, prime, construction contractor, contractor at-risk, fixed-price, cost-plus, time-and-materials, unit-price, design-build, and job order. Following is a brief description of each of these contracts:
- Negotiated Contract: Set up by the negotiation of plans, specifications, and terms/conditions without competitive bids between a contractor and a client. In most cases, the initial price and design are the primary subject of negotiations as these contracts tend to be used for unique projects. Generally, the price for the contract can be set up as either fixed or based on costs incurred by the contractor.
- Prime Contract: Gives the general (prime) contractor the full contract for a project. The general contractor is then allowed to enter into agreements with subcontractors to assist in the completion of the project. The general contractor is also then liable for completing the project according to the specification within the plans.
- Construction Contractor Contract: An agency contract between a client and a contractor in which the contractor oversees the project activities and has the authority to enter into contracts with subcontractors on behalf of the client.
- Contractor At-Risk Contract: Involves the contractor and client working together during the design phase of the project. Once the design phase is complete, the contractor is then transferred the risk of completing the project, including steps such as the hiring of subcontractors and management of the project. The contractor then owes the client the completed product that had been initially designed together.
- Fixed-Price Contract: Transfers the risk of loss to the contractor as a price is set and agreed upon between the client and contractor. The price does not change despite potential hardships faced during the process of completing the project. A change order must be completed in order for the price to change, making this type of contract the riskiest for contractors and the safest for the client. This is typically the most common contract method used.
- Cost-Plus Contract: Set up to allow a contractor to earn a set profit per dollar spent while also capping the total cost to the client. A contractor must submit reimbursable expenses for the client to pay while also factoring in the agreed upon profit margin.
- Time-and-Materials Contract: are similar to Cost-Plus contracts. The contractor must submit expenses incurred to the client, and the client pays the contractor for direct labor hours and any materials used plus an agreed upon profit margin. In many cases, these contracts also have a maximum expense that the client could be subject to paying. This type of contract is the safest for contractors and the riskiest for the client.
- Unit-Price Contract: Set up to provide contractors with performance obligations that are high in quantity. Many road construction contracts are set up on a unit-price model due to the comparability of one mile of road to another. In many cases, this type of contract is paired with another contract.
- Design-Build Contract: Combines the design and completion of the project into one contract. Joint ventures are often utilized when engaging in this type of contract. These contracts are becoming increasingly common as contractors are growing and looking for ways to increase the number of projects they can bid and handle.
- Job Order Contracts: Vague contracts that have indefinite quantity and delivery periods. A bid is submitted by using an adjustment factor that will be applied to the current price of the project. These contracts tend to be more risky for clients than for contractors.
With the changes to the revenue recognition standards issued by the Financial Accounting Standards Board (FASB) and the introduction of performance obligations, we recommend those contractors reporting on Generally Accepted Accounting Procedures (GAAP) reach out to their legal counsel to review and update contracts. While HBE is not authorized to practice law or to create any of the aforementioned contract types, we can still serve as a trusted advisor to assist with your contract needs.
If you have any questions regarding the various types of construction contracts outlined above, or would like to further discuss business growth and profitability strategies, please feel free to contact our office at (402) 423-4343. We would be happy to assist you in finding ways to make your business even more successful!